Economic Priming

April 15, 1992

THE Federal Reserve has just taken out some insurance against a repeat of last year's weak economic recovery in the United States. It pumped enough new money into the economy last Thursday to lower a key short-term interest rate, the federal funds rate, to 3.75 percent from 4 percent.

In the last few months the US economy has begun to show signs of more vigor. The Fed wanted to be sure that this new life wasn't cut off by a shortage of fresh money. If it had allowed that to happen, the outrage in the White House and Congress could have endangered the central bank's considerable independence.

For President Bush, facing reelection, the easier money was undoubtedly a relief. It should also please the jobless and the managers of businesses struggling to get through this period of weak economic activity.

Last year, Fed policymakers counted on a considerable reduction in interest rates to push along a recovery that had started in the spring. They ignored a surprisingly slow growth in the nation's money supply - the fuel for economic activity. The result was that the economic expansion almost came to a halt in the closing months of 1991.

Fed officials, of course, were keen to bring down inflation, and they have done so. Consumer prices rose at a 3.5 percent annual rate in the last three months, shooting up a surprising 0.5 percent in March alone. But producer prices rose a scant 0.2 percent last month, half that amount in February, and not at all in January. That weak inflation rate for producers' prices should soon feed through to more modest increases in consumer prices.

With an actual decline in the money supply in the last few weeks, the Fed apparently decided to take no chances this time.

A measure of money known as M2, which includes currency, checking accounts, and some savings, was down $7 billion in the last measured week, $10 billion the week before. Fed officials had moved forcefully Dec. 20 to stimulate the economy by slashing the discount rate on loans to commercial banks by 1 percentage point. They probably thought that would do the trick.

Some economists believe that government moves to close more thrifts and banks have taken some money out of the economy. But these institutions have run out of funds now. So they are not likely to be closing banks and financial institutions this month anyway.

Whether thrift and bank closing is the problem or not, the Fed should not hesitate to trim interest rates again should the money supply not respond to Thursday's action. The nation can't afford a third slump.